Tuscaloosa Shale Looks Promising

If you've never heard of the Tuscaloosa Marine Shale, nobody would hold it against you. The Bakken and Eagle Ford seem to get all the attention. While a number of other shale areas have disappointed thus far -- for example, the Monterrey and Utica -- the Tuscaloosa seems to be one of the most promising of the new shale plays. Part of the same underlying rock formation in the Eagle Ford, the Tuscaloosa Shale in central Louisiana has yielded wells which are comparable to the Bakken in both reserves and production, and nearly all production from the Tuscaloosa has been black oil.

The No. 1 operator in this shale is easily Goodrich Petroleum (GDP). While Goodrich is the biggest player in this shale, its market cap is only $850 million. Like many shale oil names, Goodrich stock has been hit hard over the last few months due to concerns about dropping oil prices. But as we will see, the economics of this shale will make sense even at $80 or $75 West Texas Intermediate (WTI).

Shale Economics

It is difficult to get a good sample of well economics in the Tuscaloosa at this time because there are relatively few wells in operation. A good example of an "average" well in this shale might be Encana's Anderson 17H-3 well. After 15 months of operation, 17H-3 has produced 140,000 barrels of oil, right along the trajectory of the average Bakken well. After 24 months, that production could be as high as 170,000 barrels.

According to a study by Keybanc in March, core Bakken wells require $68 oil in order to have a 20% internal rate of return before taxes. The Tuscaloosa will likely require somewhat higher oil prices as the oil here is considerably deeper underground than it is in the Bakken. That being said, the Tuscaloosa should eventually break even somewhere in that same ballpark. WTI would have to drop another $15-$20 before the economics of this new shale comes into question.

The biggest hurdle actually comes from well completion costs. This year, it cost Goodrich $13 million to drill and complete a well in the Tuscaloosa. Management is looking to bring that number down to $10 million and make further progress in 2015. When compared to the Eagle Ford's average cost of $8 million per well and the Bakken's average of around $6 million per well, the Tuscaloosa still has a ways to go. I believe that Goodrich and others in this shale will successfully lower well costs as more oil service companies set up shop in Louisiana.

Valuation

Goodrich has plummeted from $28 per share in October to $19.40 today. It now trades at 3.2x book value, down from over 4x just months ago. Such a sudden drop is due to fear that falling WTI could jeopardize development in the shale. That fear is overblown.

The "core" of the Bakken and Eagle Ford would still be quite profitable -- even if WTI dropped another $17 to $80 per barrel. Some of the better producers, such as Continental Resources (CLR) and EOG Resources (EOG), are able to operate profitably at even lower prices. Goodrich could join those two names because of its unrivaled position in an excellent shale play. The Tuscaloosa Shale has a promising future, and its biggest operator just got a lot cheaper.

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